According to certain types of investment strategies, a trader simultaneously (or nearly simultaneously) purchases and sells associated investment instruments, such as stocks or bonds. In particular, the trader attempts to take advantage of a difference, or “spread,” between the prices of the associated instruments. For example, a trader might note that: (i) a first instrument can currently be purchased in a first market for $8.25, and (ii) a second instrument—which is expected to be priced the same as the first instrument—can currently be sold in a second market for $8.27. In this case, the trader would simultaneously purchase the first instrument and sell the second instrument to take advantage of the $0.02 price difference.
There are a number of different types of spread trading strategies. For example, arbitrage trading is associated with differences in price when the same security, currency, or commodity is traded on two or more markets. As another example, index arbitrage trading exploits price differences between stock index futures and underlying stocks.
As still another example, risk arbitrage trading involves a purchase of stock in a company being acquired, referred to as a “target,” and a sale of stock in a proposed “acquirer” (e.g., a trader may attempt to profit on an expected rise in the price of the target's shares and drop in the price of the acquirer's shares).
In general, the size of investments that are purchased and sold during spreading trading can be significant (e.g., because the price discrepancies tend to be relatively small). Moreover, spread trading investment strategies are time sensitive (e.g., markets can be expected to quickly correct any price discrepancies). As a result, it may not be practical for a trader to manually monitor investments and place orders based on his or her observations. Instead, a trader establishes a number of trading parameters (e.g., a price difference at which orders should be generated) and have an automated system monitor investments and generate orders as appropriate.
For example, a trader might place a telephone call to an operator associated with an automated trading platform. The trader asks to have the platform monitor particular investments and generate orders based on trading parameters he or she verbally provides to the operator. Such an approach, however, may be inefficient for the trader (as well as for the trading platform), especially if the trader frequently adjusts the trading parameters (e.g., based on market conditions). Moreover, such an approach may lead to mistakes (e.g., the operator may incorrectly enter one or more parameters into the trading platform system).
As another approach, a trader might install a hard-wired computer communication channel to the automated trading platform (e.g., by leasing a dedicated access T1 line). A dedicated communication channel, however, can be expensive to install and maintain. As a result, this approach may not be feasible for traders who perform a only a limited amount of spread trading. In addition, the automated trading platform will only be able to accommodate a limited number of traders (e.g., based on a maximum number of dedicated lines that can be received by the platform).